Australia: Directors – Is your financial literacy good enough?

The obligations on directors and officers to exercise due care,
skill and diligence in the performance of their duties lies at the
heart of the regulatory scheme of corporate governance. Indeed over
the past two decades there have been a number of decisions in
Australia where the courts have assessed and commented on the
adequacy of the conduct and decision making of directors and
officers. Of the most notable of these decisions was Australian Securities and Investments Commission v Healey
(2011) 196 FCR 291 (the Centro case), which established
the principle that it is part of a director's duty to acquire a
degree of financial literacy, including a knowledge of accounting
practices and accounting standards, so that they are able to review
financial statements and monitor the progress of the company.

By way of summary, his Honour, Justice Middleton held that:

There is a core, irreducible requirement of directors to be
involved in the management of the company and to take all
reasonable steps to be in a position to guide and monitor the
company.

Whether a director has taken "all reasonable steps"
will depend on the circumstances of the case and will differ
depending upon the company, the complexity of the company's
business, the internal reporting procedures within the company and
the nature of the task the director is obliged to undertake.

The standard of "all reasonable steps" is determined
objectively by reference to the particular circumstances of the
case. It requires, at a minimum, that directors take a diligent and
intelligent interest in the information either available to them or
which they might appropriately demand from the executives or other
employees and agents of the company.

All directors must carefully read, understand and focus upon
the contents of financial reports, consider whether the financial
statements are consistent with his or her knowledge of the
company's financial position, consider the statutory
requirements, apply the knowledge he or she has of the affairs of
the company, and if necessary, make further inquiries if matters
revealed in the financial statements call for such inquiries.

The objective duty of competence requires that the directors
have the ability to read and understand financial statements. A
director must, at least, understand the terminology used in the
financial statements and understand that financial statements.

Directors are entitled to seek assistance in carrying out their
responsibilities, and may rely on others to assist them in
fulfilling a requirement even where it is one directly imposed upon
them by the Act. It is reasonable for the directors to delegate
various tasks to others, such as the preparation of books and
accounts and the carrying on of the day-to-day affairs of the
company. To a degree, the directors can rely upon the processes
they have put in place. ... However, this does not discharge the
entire obligation upon the directors. A further step is required
for all reasonable steps to have been taken. This involves the
directors taking upon themselves the responsibility of reading and
understanding the financial statements.

More recently the Federal Court handed down its decision in
Australian Securities and Investments Commission v Godfrey
[2017] FCA 1569 with the judgment providing a cautionary tale
for directors that they must ensure they have sufficient financial
literacy, and should not rely solely on management or external
auditors to ensure that their company meets its financial reporting
requirements.

In Godfrey, the plaintiff, the Australian Securities
and Investments Commission (ASIC), alleged that Mr Godfrey had
contravened section 344 of the Corporations Act 2001 (Cth)
(the Act) which provides that a director of a
company contravenes that section if they fail to take all
reasonable steps to comply with, or secure compliance with, Pt 2M.3
which deals with financial reporting.

The defendant, Patrick John Godfrey (Mr Godfrey), was the
managing director of Banksia Securities Ltd (BSL). BSL's
business involved raising money from the public through the issue
of debentures, and loaning the funds raised to third party
borrowers for property investment and development. BSL's main
asset was its loan portfolio. In his position at BSL, Godfrey had
primary responsibility for making recommendations to the board
about bad or doubtful debts. He therefore had a key role to play in
ensuring that the company complied with Part 2M.3 of the Act.

The alleged conduct resulting in contraventions of the Act by
Godfrey concerned inadequate provisioning for bad and doubtful
debts. ASIC sought declarations of the contraventions, the payment
of a pecuniary penalty, and an order disqualifying Godfrey from
managing corporations.

Both ASIC and the court accepted that there was no dishonesty on
the part of Godfrey in the way in which he carried out his
responsibilities as managing director. Rather the breach of the Act
arose because Godfrey did not realise that BSL's policies for
determining impairment of loans were not appropriate and not
consistent with AASB 139. This stemmed from Godfrey's lack of
understanding and an inadequate knowledge of the relevant financial
matters.

As a result of such lack of understanding and inadequate
knowledge, Godfrey failed to ensure that BSL's policies
relating to the assessment of impaired loans were consistent with
the relevant accounting standard (AASB 139), resulting in
significant misstatements in the financial reports prepared by BSL
in the relevant period.

The penalty applied to Mr Godfrey was disqualification from
managing corporations for a period of five years, and a pecuniary
penalty of $25,000.

Lessons to be learnt from Centro, ASIC v Godfrey and
related cases

Directors have an objective duty of skill, competence and
diligence in discharging their financial responsibilities which
requires a degree of financial literacy and familiarity with
accounting standards relevant to the circumstances. While directors
are entitled to seek assistance in carrying out their
responsibilities, they should be cautious to rely solely on
management or external auditors to ensure the company meets its
financial reporting requirements, and they properly discharge their
duties.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Article discusses earn outs – what are they and key considerations to keep in mind for both parties.

Some comments from our readers…“The articles are extremely timely and highly applicable”“I often find critical information not available elsewhere”“As in-house counsel, Mondaq’s service is of great value”

This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).

Email Address

Company Name

Password

Confirm Password

Position

Mondaq Topics -- Select your Interests

Accounting

Anti-trust

Commercial

Compliance

Consumer

Criminal

Employment

Energy

Environment

Family

Finance

Government

Healthcare

Immigration

Insolvency

Insurance

International

IP

Law Performance

Law Practice

Litigation

Media & IT

Privacy

Real Estate

Strategy

Tax

Technology

Transport

Wealth Mgt

Regions

Africa

Asia

Asia Pacific

Australasia

Canada

Caribbean

Europe

European Union

Latin America

Middle East

U.K.

United States

Worldwide Updates

Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.

To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access

No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq

No, please do not send me promotional communications from Mondaq

Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions